chapter 8: variable costing and friends Flashcards
Absorption costing
Revenue
Less cost of good sold (for what is sold)
= Gross income
Less operating expenses (S&A) (for the period)
= Net income
variable costing
Revenue
Less all variable costs (for what is sold)
= Contribution Margin
Less all fixed costs (for the period)
= Net income
difference regarding fixed MOH between absorption costing and variable costing?
absorption costing: product cost
variable costing: period cost
manufacturing costs are lower for variable costing or absorption costing? why?
variable costing
the fixed MOH is not assigned to the cost of goods
When number of units produced = number of unit sold, what does it mean for income?
No difference in income between two methods of costing for the period
No asset goes in or out of finished goods inventory
when number of units produced > number of unit sold
Absorption costing will show higher income than variable costing
Some assets(and their assigned manufacturing cost) goes into the finished goods inventory (in absorption costing)
when number of units produced < number of unit sold
Absorption costing will show lower income than variable costing
Some assets(and their assigned manufacturing cost) goes out of the finished goods inventory (in absorption costing)
what does variable costing prevent?
Prevents one type of earning management because more production does not necessarily mean more income. Sales should exist to realize net income in this method
Potential benefits of variable costing
- The use of variable costing is consistent with the cost-volume-profit material presented in Chapter6and the incremental analysis material presented in Chapter7
- Net income calculated under variable costing is not affected by changes in production levels. As a result, it is much easier to understand the impact of fixed and variable costs on the calculation of net income when using variable costing
- Net income calculated under variable costing is greatly affected by changes in sales levels (not production levels), and it therefore provides a more realistic assessment of the company’s success or failure during a period
- Because the fixed and variable cost components are shown in the variable-costing income statement, it is easier to identify these costs and understand their effect on the business. Under absorption costing, the allocation of fixed costs to inventory makes it difficult to evaluate the impact of fixed costs on the company’s results
Through put costing
Sales
Less COGS (only Direct Material) (for what is sold)
= Throughput contribution margin
Less Operating expenses which include the following:
Variable COGS (other than D.M.) for the period
Variable S&A for the period
Fixed costs (MOH and S&A) for the period
= Net income
what are arguments to use variable costing instead of absorption costing?
appeal to the cost avoidance criterion as a necessary condition for asset recognition
The incurrence of fixed manufacturing costs this period will not allow the firm to avoid or eliminate them next period, so fixed manufacturing costs should not be recognized as assets
It is also pointed out that use of absorption costing can lead to manipulation of the net income figure by managing levels of production and inventory
what are arguments to use absorption costing instead of variable costing?
the finished goods should bear a fair share of all the costs that were incurred to bring the goods to saleable condition
all costs should be properly included in inventory
the only method allowed in Canada for externally reporting
it is argued that in the long run, variable costing can be misleading for purposes of long-run costing and pricing
